Question

In: Accounting

On January 1, 2020, Winthrop Inc. entered into a lease agreement to lease equipment: 5-year lease...

On January 1, 2020, Winthrop Inc. entered into a lease agreement to lease equipment:

  • 5-year lease term
  • Annual lease payments are $10,000
  • First payment is on January 1, 2020 and the other payments are on 31 December each year
  • At the end of the lease the leased asset will revert to the lessor
  • The asset’s economic life is estimated at 10 years
  • Winthrop could have obtained equivalent financing from its bank at a rate of 5%
  • Winthrop’s fiscal year end is December 31
  • The equipment has a fair value of $70,000

Required:

  1. Calculate the present value of the lease payments.
  2. Prepare the amortization table.
  3. Classify the lease agreement.
  4. Prepare the journal entry(ies) for the lessee for the 2020 fiscal year related to the lease arrangement.

Solutions

Expert Solution

(a) Present value of lease payments

Year Date Lease PVF 5% PV
0 01-Jan-20 10000 1 10000
2 31-Dec-21 10000 0.91 9070
3 31-Dec-22 10000 0.86 8638
4 31-Dec-23 10000 0.82 8227
5 31-Dec-24 10000 0.78 7835
Lease liability 43770

(b)

Lease amortization table

Date Lease payment Interest 5% Principal Lease liability
(a) (b) ( a - b)
01-Jan-20 43770
01-Jan-20 10000 -10000 33770
31-Dec-20 1689 35460
( 35771 * 5%)
31-Dec-21 10000 1773 -8227 27232
( 35460 * 5%)
31-Dec-22 10000 1362 -8638 18594
( 27232 * 5%)
31-Dec-23 10000 930 -9070 9524
( 18594 * 5%)
31-Dec-24 10000 476 -9524
( 9524 * 5%)

(c)

Classification of lease agreement :

This lease is an operation lease as

  • it does not transfer ownership
  • it does not grant an option to purchase equipment
  • the PV of lease agreement ( 43770 ) is less than fair value ( 70000 )

(d)

Journal entries
Date Account titles Debit($) Credit($)
01-Jan-20 Right of use asset 43770
          To lease liability 43770
01-Jan-20 lease liability 10000
          To bank 10000
31-Dec-20 Lease expenses 10000
          To lease liability 1689
          To right of use asset 8311

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